Traditional income trusts have placed the trustees, who have a fiduciary duty of impartiality towards all beneficiaries, in the middle of the inherent conflict between the income needs of the income beneficiaries and the growth needs of the remainder beneficiaries. Historically, the only devices available to affect income distributions have been asset allocation, which determines almost all of the investment total return, or, if granted, discretionary powers in a trustee to invade principal.
The potential problem of asset allocation as the mechanism for establishing an adequate payout to income beneficiaries is that a portfolio that emphasized income over a long period of time, is likely to under perform a portfolio that uses a long-term investment horizon to focus on growth. This is because growth portfolios focus on equities while income portfolios tend to hold a higher concentration of fixed income securities. The longer the time horizon, the more likely equities will outperform other forms of investments. To resolve this issue, some income trusts have granted trustees discretion to allow payouts from interest and principal to meet desired income levels.
While empowering a trustee to determine which assets to liquidate and how much of an income distribution to make can effectively balance the needs of the income beneficiaries and the remainder beneficiaries, there are also potential pitfalls with this strategy. Income or remainder beneficiaries could object to a payout that they feel is arbitrary and to their detriment. In addition, exercise of a trustee's discretionary power can subject trust assets to reinvestment and market risk because of the lack of a pre-established liquidation strategy.
Recent legislation, such as the Delaware and Missouri Total Return Unitrust (TRU) statutes, permits conversion of an existing irrevocable trust to a Total Return Unitrust. This allows a trustee to invest for total return while eliminating the conflicts of interest between the current income needs of the life beneficiary and the future distribution needs of the remainder beneficiary. However, a continuing need exists for a means for comparing the performance of trusts to provide a basis for selecting the right vehicle to serve the needs of the beneficiaries.